The Private Credit Cartels
PowerSchool is one of roughly 29 irritating software applications that require me to come up with a new password every few months in order to prevent my kids from getting disenrolled from some vital recreational activity or developmental rite of passage. It is also one of several hundred software companies whose high-interest loans are held by a private credit fund that just suspended redemptions last week, about which more in a moment.
My kids’ elementary school doesn’t use PowerSchool, which was originally developed in 1997 and acquired four years later by Apple, for much these days, though it remains the only method of payment for our lousy and error-prone school lunch vendor. For each payment, PowerSchool charges a $2.65 “processing” fee, so even in a stage of advanced decline it maintains a tidy little business, which surely explains part of why the little company attracted the attention of so many suitors over the years.
In 2024, PowerSchool was taken private by Bain Capital in a $5.6 billion leveraged buyout that valued the company at a handsome 37 percent premium to its stock price. The transaction was an enormous boon to the private equity firm (Vista Equity Partners) that had originally purchased the company for $350 million nine years earlier from the company that bought it from Apple, along with the other private equity firm (Onex) that bought out half of Vista’s stake a few years later. But it was also something of a head-scratcher. PowerSchool had maintained three consecutive years of losses in the period preceding the deal, in part due to the punishing debt service costs thrown onto the company after years of buyouts. But instead of injecting more cash into the company, Bain financed its buyout with $3.2 billion in high-interest loans that added an extra $300 million in annual interest payments to PowerSchool’s punishing cost structure, promising lenders it would make up the difference by slashing staff and outsourcing jobs to subcontractors in India and the Philippines.
If PowerSchool is part of the problem in private credit, it’s not something you can discern from public filings.
The strategy appears to have backfired. Within days of Bain’s first round of PowerSchool layoffs in August 2024, a ransomware gang began infiltrating PowerSchool’s systems. By December, they had used the account of a Filipino subcontractor to hack into the company’s school support database, where the Social Security numbers, medical records, and other personal data of more than 62 million students and 9.5 million teachers and support staffers are stored. PowerSchool quickly paid off a hacker named Matthew Lane to the tune of $2.9 million, then informed its thousands of customers after claiming to have watched footage of the hacker deleting the data it had stolen, but by spring the hackers had started sending ransom demands to individual school districts. The double-tap ransom demand might have been part of a sting operation, as Lane pled guilty to extortion, identity theft, and conspiracy charges weeks later. But at least 43 students, teachers, and school districts are now suing not only PowerSchool but Bain, in a putative class action suit arguing that the breach was an inevitable consequence of the private equity firm’s “slash-and-burn approach to staffing” and partnerships with brokers to monetize its trove of student data.
Meanwhile, PowerSchool just underwent another brutal round of layoffs in December.
I BRING ALL OF THIS UP BECAUSE, as David Dayen and I wrote about recently, there’s been a bit of a bank run in the $3 trillion “private credit” industry in recent weeks, and PowerSchool debt happens to be a common thread running through many of the affected funds. The $24 billion Ares Strategic Income Fund, for example, holds about $110 million in loans to PowerSchool holding company Severin Acquisition Corp. and last week capped withdrawals at the alarming limit of 5 percent of invested funds. PowerSchool’s debt is also listed as a holding of the HPS Corporate Lending Fund, Blue Owl Capital Corp. II, and Blackstone Private Credit Fund. Combined with Ares, that’s at least four of the seven funds that have suspended or limited redemptions this year due to a sudden rash in withdrawal requests from investors spooked by recent headlines about the hidden default risks lurking in their software-heavy portfolios.
But if PowerSchool is part of the problem in private credit, it’s not something you can discern from public filings. On the Ares annual report, the fair value of the fund’s PowerSchool loan is listed at $108.9 million, just over $300,000 less than the $109.2 million it paid for the loan and a barely perceptible 1.2 percent discount from its par value. The only clue a person who didn’t happen to work in educational IT would have that something was amiss would be PowerSchool’s depressing page at TheLayoff.com, and SEC filings issued before Bain disclosed that the company had posted losses in each of the three years preceding the buyout. If PowerSchool has missed any of its unpayable interest payments, none of its creditors are saying anything about it—though all the funds that do own Severin Acquisition list a “payment in kind,” or “PIK,” yield next to the interest rate, suggesting that PowerSchool is allowed to forbear a certain portion of its interest payments until the loan matures, if it agrees to pay a higher rate.
In this way, PowerSchool exemplifies the seeming paradox of the current private credit scare. Investors are specifically fleeing funds perceived to be exposed to software company loans, to the point that a Wall Street Journal analysis found that the biggest funds had been deliberately understating their exposure to software loans by as much as 46 percent. But few major software company loans are in default; the industry’s private credit default rate actually plunged to 1.9 percent in January according to Standard & Poor’s, compared with an overall rate of 9.2 percent, and 12.8 percent for consumer products firms. And with the exception of the maker of a consumer experience tool called Medallia, virtually none of the big software company borrowers’ loans have been marked down.
The business media’s explanation for this apparent contradiction was the same as its explanation for most things that were happening in markets before the Iran war: artificial intelligence. AI chatbots are on the precipice of rendering the entire software industry obsolete, ergo … hundreds of software firms are about to default en masse on their loans. It’s the sort of theory that might plausibly explain a sudden sell-off in software company stocks, but fixed-income securities are not supposed to trade in accordance with vibes. And yet that is exactly what is happening: According to a PitchBook analysis of private loans, average bid prices on performing software loans plunged by 392 basis points in February. That seems totally crazy.
But let’s take a look at some of the other software loans in distressed private credit funds, shall we? Anaplan, a financial forecasting software firm, is a major holding of at least four funds that have suspended or curbed redemptions this year. We don’t know much about how its business is doing since Thoma Bravo, a serial software company purchaser, took the company private in 2022 at a 41 percent premium to its stock price, with the help of $3 billion in private credit. The deal was a huge win for Jonathan Soros, whose hedge fund owned a small stake in Anaplan, but you didn’t need a forecasting software subscription to wonder how a firm that lost $200 million on $565 million in revenue during its last year as a public company is supposed to come up with a quarter-billion dollars in annual interest expenses.
Now, in Thoma Bravo’s defense, interest rates were a lot lower in 2021 and early 2022, during which it did more than $80 billion in software leveraged buyouts. These purchases included the annoying email security app Proofpoint, a major holding of 6 out of 7 distressed private credit funds, which floated about $4 billion in debt to fund the buyout despite just $150 million in adjusted annual EBITDA, enough to cover interest payments only up to about 3.5 percent. What is more difficult to understand is what happened last year, just months before the sudden collapse of automotive supplier First Brands sent a chill through the private credit universe, when Proofpoint issued a new $1.35 billion loan primarily for the purpose of paying Thoma Bravo insiders a dividend, prompting a downgrade from credit rating agencies—and a stampede to buy in from what Bloomberg characterized as “thirsty debt investors.”
Wilder still, last summer at least three of the now-distressed private credit funds bought slices of the staggering $2.6 billion debt load Bain took on to buy a revenue cycle management software firm called HealthEdge that Blackstone had tried and failed to sell in the go-go years of 2022, at an eye-popping valuation of 30 times adjusted EBITDA—and nearly four times what Blackstone had paid for it. HealthEdge is paying an interest rate of 8.72 percent on its monster loan, meaning its annual interest expenses roughly translate to $226 million, or more than half the company’s total sales of $400 million. How is that supposed to work?
THE SHORT ANSWER IS A NEW VERSION of extend and pretend: “defer payments until IPO.” Wall Street even invented a new product called the “recurring revenue loan,” designed for high-growth, low-profitability businesses, which deferred borrowers’ interest payments until some future “conversion” date that typically transpired when the company went public and used the IPO proceeds to repay it. But recurring revenue loans made credit analysts queasy, because the fine print often incentivized managers to burn cash in search of revenue growth.
And then came the leveraged software buyout that should have stopped the madness back in 2022: the cursed $15 billion debt package raised to finance the private equity LBO of remote work software developer Citrix and deliver hefty payouts to Vista Equity Partners and Elliott Investment Management. The Citrix deal was something like the corporate debt equivalent of an Uber driver taking out a zero-down-payment mortgage on Mar-a-Lago, and the immediate aftermath was almost as ridiculous. The company ran out of cash midway through its first round of layoffs while the banks were still in the late stages of underwriting the debt package; it had apparently failed to budget the cost of severance for all the downsized employees. (You may recall a similar debacle at Twitter, which floated $12 billion in debt.) The crisis should have brought a quick end to the epidemic of fake math in private equity buyouts; instead, Apollo Global Management and others swooped in to buy the debt, along with dividend-bearing “preferred shares” at a steep discount—and ended up realizing a 30 percent “internal rate of return” even as the banks and every plain-vanilla investor ended up losing billions.
And so a crisis that should have been the start of the great unraveling of a decade-long private equity Ponzi scheme instead became the launch event for a host of hungry “private credit” funds, almost all of them run by private equity juggernauts like Apollo, Ares, and Blackstone. The boomlet gave private equity firms the opportunity to cash in for another three years by lending at predatory rates to companies too broke for traditional banks to touch, a business that exploded to nearly $3 trillion. As much as 80 percent of the loans were extended to companies owned by private equity firms like themselves.
That’s why it’s notable, I think, that most of the big meltdowns thus far in private credit have occurred at corporate borrowers that aren’t controlled—anymore, at least—by private equity firms. First Brands, whose sudden bankruptcy in September sent the market into a tailspin, was a rollup of auto parts suppliers formerly owned by private equity firms but acquired by a reclusive Malaysian-born mogul in Ohio. Tricolor Auto Acceptance was a Texas-based subprime auto lender founded by a Dallas-born former basketball coach. Carriox Capital was a small-business lender founded by an Indian-born telecom entrepreneur. Market Financial Solutions was a real estate bridge loan lender in London that appears to have been a front for an elaborate scheme by which former Bangladeshi officials looted their government and laundered the funds into European real estate. All four companies were taking out private credit loans collateralized by auto loans, real estate, factory equipment, and/or invoices for accounts payable; all four allegedly double- or triple-pledged collateral and/or fabricated it altogether and are the subjects of complex criminal investigations. And in all four cases, the catalyst for the collapse was not a missed interest payment or a cash crunch but a conscious and coordinated decision by the private credit community to cut off the flow of funds.
A crisis that should have been the start of the great unraveling of a decade-long private equity Ponzi scheme instead became the launch event for a host of hungry “private credit” funds.
The Israeli-French billionaire Patrick Drahi, whose global broadband media empire Altice—recently rebranded Optimum Communications in the United States—is one of if not the biggest private credit borrowers that is not controlled by a major private equity firm, with some $60 billion or so in outstanding debt. Virtually unknown a decade ago outside Israel, where he owned a major television channel, Drahi spent most of the last decade making liberal use of cheap and abundant junk bonds to acquire New York’s Cablevision and Suddenlink broadband networks, the Sotheby’s auction house, and various smaller media enterprises. But in 2024, he claims, the music abruptly stopped after Altice, overwhelmed by its ballooning floating-rate interest payments, negotiated a massive $9 billion debt reduction with European bondholders in exchange for a 45 percent equity stake in the business. Soon afterward, Drahi’s team began receiving solicitations from its American creditors about the possibility of working out a similar restructuring deal in the U.S.
But it was not to be, because according to a lawsuit Drahi would later file, on July 3, 2024, Optimum’s U.S. creditors formed a secret club that barred any member from negotiating bilaterally with the company, selling their bonds to anyone outside of the club, or even allowing Optimum to buy back its own bonds at the prevailing market price. According to the lawsuit, the club barred any transaction whatsoever involving Optimum debt without the expressed approval of at least two-thirds of the members of each class of debt: secured, guaranteed, and unsecured. And if the club did approve a sale, the rules required Optimum to pay more than $20 million in fees for each transaction, to the club and its top-shelf attorneys.
The club, officially called the Creditor Cooperative, is allegedly governed by a steering committee consisting of the biggest debt investors on Wall Street: Apollo, Ares, BlackRock, JPMorgan Chase, PGIM Asset Management, GoldenTree Asset Management, Oaktree Capital Management, and Loomis, Sayles & Company, a Boston-based bond investor with some $300 billion in assets under management. All of the firms are named in the lawsuit; Drahi claims they have not only “browbeaten” the holders of all but 1 percent of Optimum’s debt into joining the club, but launched a successful “pressure campaign” to convince Optimum’s former law firm, Kirkland & Ellis, to drop the cable company as a client as “punishment for the antitrust lawsuit” Optimum originally brought against the club last December. A representative from the asset manager PGIM is quoted saying during a meeting of the club: “We are the high-yield market.”
When Optimum went outside the club last summer and found someone who was willing to loan the company $1 billion for operations at a punishing double-digit interest rate, the cooperative’s lead financial adviser told an Optimum finance representative that it had overpaid for the loan by “at least ‘200 basis points,’” according to the lawsuit. But the club refuses to endorse any transactions with Optimum that don’t involve signing on to draconian new debt restrictions that would amount to handing the club effective control of the company, in what the lawsuit characterizes as a hard-knuckle campaign to drive Optimum into either bankruptcy or de facto bankruptcy. The co-op, for its part, has urged the judge to dismiss the case, describing it as a “frivolous” attempt to “weaponize the antitrust laws” to gain “leverage to which they are not entitled” to extract concessions on billions of dollars in debt.
Don’t cry too hard for Patrick Drahi: He’s a staunch ally of Benjamin Netanyahu whose i24 network employs a “senior commentator” who last year called for the mass extermination of Palestinian journalists for the sin of “transmitting pictures of hunger.” But his antitrust lawsuit against the private credit cartel (described as “an epidemic of creditor collusion”) makes a convincing case that this is simply how the credit markets work these days. Estimates formulated by distressed investors told PitchBook last year that at least 45 similarly draconian creditor cooperatives officially formed in 2024 alone, up from roughly four a year in the preceding years.
As the stories of First Brands and Tricolor can attest, most of the companies that take out loans from private credit funds can be easily brought to their knees by a few curt text messages or handshakes and a few calls to a go-to bankruptcy lawyer. A month after forming the Optimum co-op, Apollo took somewhat esoteric steps to buy credit protection on private loans to First Brands, effectively launching the campaign to short the company’s debt that ultimately resulted in its disorderly failure a year later; then JPMorgan cut off Tricolor’s warehouse facility and CEO Jamie Dimon gave a speech warning that every “cockroach” sighting was an indication “there are probably more.” More recently, JPMorgan initiated a strategy to facilitate client bets against firms exposed to private credit; Bank of America joined them but then backed off. Anyway, we don’t have to look far to find distressed-debt vultures salivating at the thought of another crisis. “Biggest opportunity since 2008,” Victor Khosla of Strategic Value Partners told the Financial Times.
It is wholly unclear how many short positions Apollo and other big private equity buyout shops turned private credit predatory lenders have taken in advance of the crunch we are currently experiencing. But given that at least one source claims Apollo’s First Brands bet was “synthetic” in nature, do not be surprised if we learn later on that the counterparty holding the “synthetic” bond on the other side of that short position is an undercapitalized insurance company along the lines of AIG or Apollo’s Athene.
Because the private credit powers that be seem eager to get on with the market crash already. Last month, Apollo co-president John Zito told an investment conference that most private credit software loans issued between 2018 and 2022 were worth no more than 20 to 40 cents on the dollar—and as the mastermind behind the profits the firm booked on the “dislocation” of the Citrix screwup three years earlier, he would know. Sadly, as long as all the details of this $3 trillion industry remain wholly undisclosed to the public, we would not. But the blanket dismissal of four years’ worth of deals suggests that the problem with private credit doesn’t have anything to do with AI or the avarice of a reclusive antique car collector in rural Ohio: It was systemic underwriting chicanery perpetrated to enrich the same tiny gang of private equity plutocrats that already enriched themselves by repeatedly enshittifying every facet of American existence, while laying off more than 600,000 tech workers over the past five years.
But where Citigroup once had to literally infiltrate Barack Obama’s campaign and commandeer his transition team to avoid accountability back in 2008, this time around the American regulatory framework has itself been pounded into extinction. SEC enforcement chief Margaret Ryan, a former military judge and Clarence Thomas clerk handpicked by chair Paul Atkins for the express purpose of never enforcing securities laws, resigned last month in disgust over the agency’s appalling decision to drop its case against Justin Sun, the crypto fraudster who last year invested some $75 million in shitcoins minted by the Trump family’s World Liberty Financial. Atkins himself came to the agency from one Cliffwater Corporate Lending Fund, a $42 billion private credit fund that has been slammed with redemption requests from investors suddenly spooked over a combination of opacity and incestuousness: Run by a father-son team with no experience in corporate lending, the fund has plowed nearly $4 billion of its investors’ cash into … other private credit funds. Atkins served as a trustee with the fund until Trump nominated him to the SEC chairmanship early last year, and carried Cliffwater’s distaste for transparency into his new post. Any day now, the agency is expected to unveil a formal proposal to drop its 55-year-old requirement to report quarterly financials to investors. Thus rendering the act of investing in a publicly traded company that much more like investing in a completely opaque, disclosure-free private credit fund.
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